DoJ on Apple e-book pricing: two wrongs don’t make a right

Apple's response to the suit and settlement is being called "self-serving."

The US Department of Justice says it plans to move forward with its proposed settlement with some e-book publishers, despite the "self-serving" comments submitted by Apple. In a 64-page response (PDF) to the comments it received on the settlement, the DoJ reiterated its reasons for suing Apple and publishers, accusing Apple of continuing to offer solutions that are "contrary to the public interest." That's a no-no, even if the old system pushed by Amazon was a "monopoly."

When the DoJ first sued Apple, Hachette, Harper Collins, Macmillan, Penguin, Pearson, and Simon & Schuster in April of 2012, it said the companies had actively conspired to raise e-book prices. This allegedly forced consumers to "pay tens of millions of dollars more for e-books than they otherwise would have paid" since the iPad's launch in 2010, both as a result of the iBookstore's prices and Amazon's eventual decision to adopt the same "agency model" pricing scheme that same year.

Agency model

When people refer to the "agency model," it's usually in reference to the sale of electronic content online—in particular, e-books. The "old" way to sell e-books was to use what is known as the wholesale model. Under the wholesale model, book publishers sell a certain number of books to a reseller (such as Amazon or Barnes & Noble) for a set price, then the reseller sets its own price on each book.

Three of the publishers—Hatchette, HarperCollins, and Simon & Schuster—immediately agreed to settle with the DoJ, leading to a slew of commentary being submitted from the public, publishers, and even Apple. And now that the comment period is over, the DoJ appears to feel even more strongly about its original complaint. In its response, the DoJ reiterated that it conducted a "lengthy investigation" into the e-book price increases of 2010 that "uncovered significant evidence that the seismic shift in e-book prices was not the result of market forces, but rather came about through the collusive efforts of Apple and five of the six largest publishers in the country."

The DoJ claims the only critical commenters were those with an interest in seeing people pay more for e-books. (It's important to note that Apple was the only non-settling defendant in the case that submitted comments). It also believes settlement critics didn't fully understand its decree.

An attempt to wipe out the agency model?

Apple had accused the DoJ of trying to prohibit the use of the well-known agency model—a sentiment reflected quite publicly last week in an editorial written by US Senator Charles Schumer (D-NY). Schumer argued that if Apple was forced to adopt Amazon's old wholesale model, it could "wipe out the publishing industry as we know it."

But the DoJ says it "does not object to the agency method of distribution in the e-book industry, only to the collusive use of agency to eliminate competition and thrust higher prices onto consumers." Instead, the DoJ says its proposed modifications to Apple's existing agreements would make it easier for publishers to compete without restriction. For example, Apple's original agreement required publishers to give Apple "most favored" status when it came to e-book prices across different retailers; the DoJ wants to eliminate that element.

"To the extent the proposed Final Judgment requires changes to the business relationship between retailers such as Apple and Settling Defendants, it ensures that retailers have more flexibility, not less," the DoJ wrote. "Nothing in the proposed Final Judgment would force Apple or B&N to exercise discounting authority—they are free to carry out their own businesses exactly as before. What they may not do is continue to rely on a conspiracy to restrain their competitors."

As for those arguing that drastic action was needed in order to combat Amazon's alleged tyranny over the e-book industry, the DoJ points out that Apple was not the Kindle's first competitor. After all, the Barnes & Noble Nook, as well as a handful of less-popular e-readers, were available before the iPad was launched.

But none of them offered significant challenges to Amazon's business model before Apple's entry into the market—something the publishing industry was apparently unhappy with. Publishers' dissatisfaction with the status quo was highlighted in one of Apple's responses to a separate (but similar) class-action lawsuit in May. "Publicly and privately in their individual discussions with Apple, representatives of each of the publishers separately expressed varying degrees of unhappiness with Amazon’s tactics, including its pricing," Apple wrote at the time. Cupertino further argued that publishers were desperate for a change in e-book strategy altogether, which Apple was happy to give them.

But the DoJ says two wrongs don't make a right, even if Amazon did have a real monopoly. "There is no mistaking the fear that many of the commenters have of the prospect of competing with Amazon on price. No doubt Amazon is a vigorous e-book competitor," The DoJ wrote in its response. "The future is unclear and the path for many industry members may be fraught with uncertainty and risk. But certainly there is no shortage of competitive assets and capabilities being brought to bear in the e-books industry. A purpose of the proposed Final Judgment is to prevent entrenched industry members from arresting via collusion the potentially huge benefits of intense competition in an evolving market."

"[E]ven if there were evidence to substantiate claims of 'monopolization' or 'predatory pricing,' they would not be sufficient to justify self-help in the form of collusion," the DoJ wrote.

It's clear from the DoJ's comments that it feels strongly about its findings that the price of new releases in the US "jumped 30 to 50 percent" the minute the iPad and iBookstore were launched—the result of an illegal conspiracy. As such, it plans to maintain course on its proposed settlement—and its case against Apple and the remaining publishers.

Promoted Comments

This is a lot more complex that most commenters here seem to be aware of.

Before Apple, Amazon was paying wholesale price for the books. This was 35% of the suggested retail price, which left a 65% margin for Amazon to do as they saw fit. This was their standard deal, with undisclosed exceptions such as Amazon-exclusive authors like Paulo Coelho.

So for a $10 book, Amazon would pay $3.5 to the publisher regardless of the price they sold the book at. Usually they would then discount the book within their margin (up to $6.5), or for some books they even sold them at a loss (but still turning a profit by making money on others)

Now of course this wreaks havoc for any publishing strategy, if Amazon is selling all your competitor's books for the wholesale price of $3.5 (without profit) but yours at the full price of $10, you're obviously not going to sell as many books. The discount Amazon applies to each book is completely out of your control.

So what can you do? Well you'd have no option but to lower the suggested retail price, and get less out of each book.

This is the trick Amazon uses over and over again, so they effectively set the prices they want on books, without needing any agreements. By juggling the discount on competitors books they force publishers to lower their prices.

Then Apple came in and forced Amazon to change the rules, they would now pay 70% of the suggested retail price to publishers and keep 30% (plus some hefty "download" fees). BUT they weren't done controlling prices yet, they would only pay you this if you price your books between $2.99 and $9.99. If your suggested price was higher (or lower) they'd revert to the 35% deal.

So in reality Amazon has been setting the prices for a long time, they just do it indirectly.